“Revenue is vanity, profit is sanity, but cash is king.”
Ask nearly every small to medium-sized business (SMB) owner or manager what their biggest fear is and they will almost all tell you that it is running out of money, by virtue of poor cash flow management. Cash and cash flow is vital to any business, like blood in the human body and without it, a business, like a human, will die. As we move towards a likely economic downturn in Australia and a period of economic instability, good cash flow management will become even more important for small to medium-sized businesses (SMB) to avoid financial problems or even closure. If a business doesn’t have the cash to meet its financial liabilities as they become due, then the company faces becoming insolvent.
As Australia begins to experience economic conditions not seen since the GFC, with soaring inflation, supply chain issues (that are hitting Australia harder than many countries because of its geographic location) and the Australian Tax Office (ATO) announcing that it will be chasing outstanding debts, Australian businesses are under increasing financial pressure. It is becoming more important for companies and businesses to have a strong understanding of their cash flow and how to manage cash flow. Understanding cash flow takes away the likelihood of any unpleasant financial surprises and allows the business owner or manager to plan for future issues and problems, as well as manage the liquidity of their business.
As market conditions deteriorate and trading conditions worsen, SMB owners need to take affirmative action. Having a plan and being prepared will really help businesses ride the rough seas of the downturn and we suggest the following five-step plan for managing cash flow.
5-Step Plan for Managing your Business Cash Flow
1. Analysis and Understanding Cash Flow
Review every aspect of the business and decide whether every cost is necessary and whether every dollar of potential revenue is being achieved. The goal is to cut out any waste or fat that the business will not suffer from losing. Every business builds up expenditures that happen for no good reason except the business is used to making them. Review suppliers and working practices and be sure that the business is running at its most efficient and all costs are re-negotiated downwards, and all supplies and purchases are checked and delayed or cancelled if non-essential.
It is vital that the business is ahead of the economic downturn and taking positive action before it hits the bottom line of the cash flow. As well as reviewing and making tough decisions on costs, and reviewing all revenue streams. Is there an opportunity to charge more for the products or services or can supplementary products or services be added to make a positive impact on the cash position. The more honest the review, the better the position the business will be in. This is the first step to good cash flow management and is one that should be immediately reviewed within your business.
2. Cash Flow Forecast
Once a thorough review of the business has taken place; it is worth forecasting the cash flow position of the business on a short-term basis; 90-day forecasts would be the recommended time frame for effective cash flow management. The 90-day (quarterly) forecast would represent a detailed view of all money that is coming in from debtors and all payments going out to creditors. As well as including all the creditor and debtor information, it is important to include any staff entitlements, debt or loan payments, tax liabilities and any other irregular or one-off payments that will become due.
By factoring in each of these components, your cash flow management should significantly improve, and you should have a much better understanding of your business’s overall sustainability. It is worth looking back at the same quarterly period in previous years, to make sure that payments that fell due in previous years are not missed in the current year cashflow forecast.
The plan must primarily focus on ensuring that there are no surprises and that there is always enough cash in the business to pay all the outstanding debts and to fulfil any payments, that become due in that quarter. It is also important to prioritise the creditors to ensure that the most important invoices are paid first and if there is any flexibility in the time frame for other due payments, it is used to maximise the time before payment is made.
A company that has effective cash flow management will time its outgoings to ensure that they are always enough cash to finance them. Payments to employees, the banks and the ATO all have both legal and financial consequences if missed or are made late, so the cash flow plan must prioritise these payments at the expense of all others.
3. Collecting Money Owed
Once the cash flow forecast is complete, the first task is to focus on the debtors and collecting all monies owed. Building a solid cash collection process and a cash collection focus and culture is essential for every business, regardless of size.
It is important to have a structure for collection in place that communicates with all debtors regularly and effectively as well as a process for speeding up the collection of outstanding money if it becomes overdue. This may include ceasing to supplying goods or services to a customer, once their debt is overdue. Clear communication with debtors throughout the payment period and in advance of conducting business and a transparent structure for dealing with overdue debts are two worthwhile actions for all businesses to take, to ensure debts are paid in full and on time, with no confusion or disagreement during the payment process. Your business can significantly improve cash flow management simply by reviewing your processes associated with collecting money owed.
4. Budgeting for Cost Reductions
Creating an annual budget for costs and revenues gives a business more control over its cash flow, margins and ultimately, its financial performance. The annual budgeting process allows a business to decide how much it will spend in every area of activity and ultimately control the expenditure for the upcoming year.
An old but true cliché says that it is possible for a business to predict the costs, but no business can predict the revenues. Revenues are more likely to change and reduce in a tough economic climate, as customers change their spending, based on their own cash flow requirements. Costs are the one area of a business where there should be no surprises and there is the opportunity for a business to reduce costs through the budgeting process and be far better prepared for a changing revenue environment. Effective cash flow management lies in the ability of a business to regularly review and manage costs.
5. Working Documents
Do not put the budget or the cash flow forecast in a draw and forget about them. The key to effective cash flow management is to recognise that both these documents are working business tools that should be consistently referred to and used to check progress towards the business's quarterly and annual goals.
It is important to use both budgets and forecasts in a pragmatic way and be prepared to forecast as often as is necessary (although quarterly is probably the most usual) to ensure that your numbers reflect the reality of the market and the conditions. It is advisable to keep the budget as the key document for measuring the financial success of the business, but cash flow forecasts will provide a realistic and real-time view of how the business is performing and raise any alarm bells about shortfalls in the business’s cash position before it is too late.
By following this 5 step plan for managing cash flow, your business will be far more equipped at the foreseeable economic downturn. Effective cash flow management is the key to surviving external volatility.
Related: Why Managing Cash Flow is Key To Business Success
Outsourcing your Cash Flow Management
Given the importance of cash flow management, particularly in the current business climate that we find ourselves navigating today, outsourcing cash flow management will be hugely beneficial for your business.
Azure Group’s team have a wealth of knowledge and experience when it comes to effective cash flow management. Our team provide a detailed “what if” analysis and solutions to address shortfalls and surpluses if or when they occur. To find out more about outsourcing your cash flow management, please get in touch.
Related: 4 Reasons Why You Should Consider Outsourced Finance
Have you noticed our #FridayExpertTips... here's one that relates to #Outsourced Accounting
"There is no denying that COVID-19 will have lasting short and long-term effects on the economy and your business. It's imperative by now that you have a long-view Cashflow Forecast in place that deals with both good and worst-case scenarios so you are ready to react swiftly. Speak to us today if you need help."
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